Are Small-Cap Indexers Hurting the Performance of Active Funds?
An investigation into a common complaint of active managers.
Some active small-cap managers bemoan the industry’s secular shift toward passive products as a direct cause of their performance struggles. They often claim that heavy flows into indexlike or smart-beta products can distort the prices of small-cap companies due to their illiquidity; the impact of the flows to passive products theoretically outweighs the market movements resulting from the price discovery of other transactions. In turn, less-attractive index constituents rally undeservedly, the active portfolios’ stocks struggle to outperform the index amidst the overwhelming force of the passive flows, and managers don’t get rewarded for discovering sound fundamental companies that may be less prominent in or excluded from the benchmark. This phenomenon contributes to the fund underperforming its benchmark net-of-fees.
While this assertion flows logically, research has not found a relation between flows to passive small-cap products and active small-cap fund performance, and a look into small-cap managers’ performance compared with small-cap asset flows suggests no causal relationship. If this theory were correct, one would expect to see that periods of high passive inflows would correlate with weaker active performance over time.
Transparency is how we protect the integrity of our work and keep empowering investors to achieve their goals and dreams. And we have unwavering standards for how we keep that integrity intact, from our research and data to our policies on content and your personal data.
We’d like to share more about how we work and what drives our day-to-day business.
We sell different types of products and services to both investment professionals and individual investors. These products and services are usually sold through license agreements or subscriptions. Our investment management business generates asset-based fees, which are calculated as a percentage of assets under management. We also sell both admissions and sponsorship packages for our investment conferences and advertising on our websites and newsletters.
How we use your information depends on the product and service that you use and your relationship with us. We may use it to:
To learn more about how we handle and protect your data, visit our privacy center.
Maintaining independence and editorial freedom is essential to our mission of empowering investor success. We provide a platform for our authors to report on investments fairly, accurately, and from the investor’s point of view. We also respect individual opinions––they represent the unvarnished thinking of our people and exacting analysis of our research processes. Our authors can publish views that we may or may not agree with, but they show their work, distinguish facts from opinions, and make sure their analysis is clear and in no way misleading or deceptive.
To further protect the integrity of our editorial content, we keep a strict separation between our sales teams and authors to remove any pressure or influence on our analyses and research.
Read our editorial policy to learn more about our process.